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Atlantic Capital Bancshares, Inc. (ACBI)
Q3Â 2020 Earnings Call
Oct 23, 2020, 10:00 a.m. ET
Contents:
- Prepared Remarks
- Questions and Answers
- Call Participants
Prepared Remarks:
Operator
Good morning, and welcome to the Atlantic Capital Bank Third Quarter 2020 Earnings Conference Call. [Operator Instructions] After today's presentation there will be an opportunity to ask questions. [Operator Instructions]
I would now like to turn the conference over to Gray Fleming, Chief Risk Officer. Please go ahead.
Gray Fleming -- Chief Risk Officer
Thank you, Andrea, and thank you all for joining our third quarter of 2020 earnings call. With me today to discuss our results are Doug Williams, Chief Executive Officer; and Patrick Oakes, Chief Financial Officer.
As a reminder, the Atlantic Capital earnings release and investor presentation are available in the Investor Relations section of our website. I do wish to caution you that we will be making forward-looking statements during this call and that actual results may differ materially. We encourage you to review the disclaimer and the earnings release dealing with forward-looking information. This disclaimer applies equally to statements made in this call.
In addition, some discussions may include references to non-GAAP financial measures. Information about those measures including reconciliation to GAAP measures may be found in our SEC filings and in our earnings release.
With that, I will turn the call over to the CEO of Atlantic Capital, Doug Williams.
Douglas L. Williams -- President and Chief Executive Officer
Thank you, Gary, and good morning. And thank you all for joining us to review Atlantic Capital's third quarter results. As we have for the last couple of quarters, let me direct your attention to the third quarter investor presentation posted on our website yesterday evening and filed with the SEC on Form 8-K. I'll offer some overview perspective, then Pat Oakes will review the financials and Gray Fleming will discuss credit. After our presentation, we'll try to answer your questions and I'll close with some summary comments.
Beginning on Page three, I'll first highlight our third quarter performance in the pandemic context. We produced another quarter of solid operating performance and strong year-over-year growth in PPNR. This is particularly notable given the headwinds of 150 basis point decline in interest rates this year and 200 basis points in rate reductions over the last four quarters. We reported another quarter of double-digit linked quarter and year-over-year growth in core relationship deposits and reduced the average cost of those deposits to 19 basis points during the quarter.
We continue to strengthen our fortress balance sheet -- we continue to strengthen our fortress balance sheet with the issuance of $75 million in subordinated notes and the maintenance of a strong allowance for credit losses. Subsequent to the issuance of these notes, we resumed our share repurchase program and bought back 401,000 shares for $4.6 million. At quarter end, we also redeemed $50 million of subordinated notes issued in 2015.
Second, I'll offer some observations about the third quarter business environment during the pandemic. Loan deferrals declined sharply reflecting resilient borrower performance and renewed optimism. Loan pipelines began to recover during the quarter as clients made plans for new investment. We began to process a limited number of PPP forgiveness applications, although no loans were actually forgiven during the quarter. Enhanced monitoring of COVID-19 affected borrowers continues. And the CARES Act subsidy payments for most SBA borrowers will expire in October, and we expect to process some SBA deferral request in the fourth quarter.
Third, I'll comment, the credit quality was stable during the quarter. The allowance for credit losses remained robust at 1.59% of all loans and 1.78% of all loans excluding Paycheck Protection Program loans. Loan modifications declined from almost 24% to 0.3% with no migration of those loans to non-accrual status. Net charge-offs were 6 basis points of loans and non-performing assets were 20 basis points of assets.
Turning to Page four, I'll note diluted earnings per share were $0.40 per share, compared to $0.09 per share in the second quarter and a 21% increase from the 31% -- $0.31 reported in the third quarter of 2019. PPNR was 7% above the year ago quarter and while nominally down on a late-quarter basis, we will identify some unusual non-recurring, non-interest expense items and higher interest expense incurred during August and September, before the redemption of the 2015 subordinated notes.
Loan growth during the quarter was $3.3 million, but up 7% year-over-year excluding PPP loans. And as I mentioned earlier, loan pipelines began to build during the quarter and we expect to return to more meaningful loan growth in the fourth quarter. Deposit growth remains robust. And particularly non-interest bearing demand deposits grew on average 34% year-over-year and 20% on a linked quarter basis. Tangible book value per share increased to $15.11 per share and our capital ratios remain robust well above well capitalized standards and above many peers.
Turning to Page five, this is an historic perspective on loan growth for the last four years and three quarters, we've grown all loans at a 10% CAGR and commercial loans, those being commercial and industrial loans and owner-occupied real estate loans have grown 13% per annum over that period of time.
Turning to Page six, average deposits have grown 16% on a compound average growth rate basis over the last four and three quarters years and demand deposits have grown 22% over that -- 22% on average over that period of time.
Now, Pat Oakes will review the financials for you.
Patrick Oakes -- Chief Financial Officer
Thanks, Doug. To sum on Slide seven. And let me start with quick summary of our income statement before digging into some of the details.
Net interest income in the third quarter was up slightly from the second quarter. An increase in net interest income from the full impact of our PPP loans was offset by some higher interest expense, due to the issuance of the $75 million in sub debt in August. And we did call our legacy $50 million sub debt on September 30. The provision for loan -- for credit losses was only $28,000 for the quarter, compared to $18.9 million for the previous quarter. $636,000 provision for credit losses was offset by a $609,000 decrease in the reserve for unfunded commitments.
Non-interest income was $2.5 million, up slightly from the second quarter. Service charge income increased $136,000 as ACH volumes in our payments business recovered from the COVID-related impact in the second quarter. SBA income increased $111,000 as we saw a slight increase in the amount of loans sold during the quarter. This was partially offset by a $145,000 loss on the sale of an ORE property. Expenses in the third quarter were up from the second quarter, resulting from an increase in salary and benefits expense and a loss on customer accounts. I will provide more detail when we get to the expense slide.
And now on Slide eight, the net interest margin decreased 9 basis points in the third quarter to 3.14%, excluding the impact of PPP loans, the NIM was closer to 3.18% down 17 basis points from the second quarter. About 8 basis points of this decrease was from the interest cost of the new sub debt.
Loan yields decreased during the third quarter by 5 basis points to 3.82%, excluding PPP loans, the loan was 3.95% -- the loan yield was 3.95%, a decrease of 14 basis points from the third quarter. I think we've seen the full impact of our floating rate loans repricing down, but we are seeing -- still seeing some pressure on fixed rate loan pricing. So I would expect the yield on our loan portfolio to trend down over time.
The loan yields for the PPP loans in the third quarter was 2.71%, an increase of -- from 1.52% in the second quarter, as we recognize the full quarterly benefit from amortizing loan fees and the income over the life of the loans. As Doug mentioned earlier, we saw a decrease of 3 basis points in our cost of deposits to 19 basis points. The cost of interest bearing deposits was 28 basis points, compared to 33 basis points last quarter.
And on to Slide nine, we saw a slight increase in our efficiency ratio to 56.6%. As I mentioned earlier, an increase in salary and benefits expense and a loss related to customer accounts were the main drivers here. Salary and benefits increased due to higher incentive accrual based on improvements in the Bank's performance and a decrease in loan production salary cost deferrals as a result of slower loan originations during the quarter.
The third quarter loss on customer accounts totaled $470,000. The good news is that $290,000 of the funds were recovered in October and will benefit Q4 expenses. In the fourth quarter, I would expect expense levels to return to levels closer to what we experienced over the last few quarters.
And then finally, our capital position remained strong. Our tangible common equity ratio was 11% or about 12% if we exclude the impact of PPP loans. The issuance of $75 million in sub debt provided us with additional capital and liquidity at the holding company. As Doug mentioned, we also restarted our stock repurchase program during the quarter, and was able to repurchase 401,000 shares, totaling $4.6 million at an average price of $11.51. As of September 30, we had just under $19 million remaining under our $25 million share repurchase program.
Now, I'll turn it over to Gray.
Gray Fleming -- Chief Risk Officer
Thanks, Pat, I'll touch on a few credit highlights starting on Page 11. As you've heard from Doug and Pat, our charge-offs did remain low in the third quarter, and these were just in our SBA book this quarter. Another good indicator of current credit quality was that non-accruals have also remain low, even as deferrals have rolled off. In fact, most of our September 30 non-accruals are the remaining guaranteed portions of some SBA loans. We continue to be proactive with our COVID-driven credit rates and you can see the classified loans have ticked up a little bit each quarter this year, but all the new ones other than a couple of small SBA charge-offs remain current and our off deferral as of 9/30.
Briefly on Page 12, you can see the results of our CECL modeling for the quarter. Pat and Doug have both touched on this our reserves remain robust at around 1.8% of loans excluding PPP loans. And as Pat mentioned, we did have a small provision for loans this quarter, that was largely offset by a decrease in our reserve for unfunded commitments. And you can see those, as well as our total charge-offs of $347,000 net charge-offs for the quarter.
On Page 13, this is an update on our deferrals. Deferrals are down significantly since June 30, to less than 0.5% of total loans. We did have some second deferrals, but most of those were short either 60, 90 or 30 days, in some cases, and all of those have expired. That said, we are talking about the few borrowers, for example, in our hotel portfolio, who might need a little bit more relief to get through the slower winter months. We're also expecting to get some SBA deferral request of the CARES Act subsidy payments and for most of those borrowers this month. But we will work through each of those in accordance with SBA program rules, which have not changed.
On Page 14, this is just a brief update on the PPP loans. As Doug said, we have started the forgiveness process, but it will definitely extend into '21 for a lot of those borrowers. And you can see the remaining fees of about $6 million that are still to be recognized.
Finally, on Page 15. This is an update to our COVID sensitive industries summary, the same industry segments that we've shown -- that we showed last quarter. Hotels is still the primary industry segment feeling stress in a general sense. The only classified loans we have there at 9/30 are a couple of small SBA loans.
Our CRE developers in the hotel space remain optimistic long-term about the good locations they have, but a couple of those might need some additional relief during the winter months and those loans could move to classified, but we still think they're OK long-term. Our average hotel occupancy has held fairly steady in August, the most recent month we have full data for at just under 50% on average.
With that, I will turn it back to Doug.
Douglas L. Williams -- President and Chief Executive Officer
Thank you, Gray. Operator, we'll be pleased to answering questions now.
Questions and Answers:
Operator
We will now begin the question-and-answer session. [Operator Instructions] And our first question comes from Michael Rose of Raymond James. Please go ahead.
Michael Rose -- Raymond James -- Analyst
Hey, good morning guys, hope you're well. Just wanted to start with the buyback. I think it sends a pretty strong signal and then confidence in credit from you guys. You got a little under $90 [Phonetic] million as you mentioned. How should we think about the pace of repurchases as we move forward, particularly over the next couple of quarters as we're still working through some of the issues stemming from COVID? I mean, should we expect that you guys would utilize the majority of what's remaining over the next couple of quarters or is it going to be a little bit more opportunistic? Thanks.
Patrick Oakes -- Chief Financial Officer
Well, Michael, I'll start, then Doug can jump in here. So obviously with where we're trading throughout the quarter, we were pretty aggressive as minus -- as aggressive as we could during that time period. And I would expect that to continue, especially if we trade below book. A lot of those to be depend on probably trading levels and everything else, but I would expect us to continue to try to fill that $25 million quickly as possible and hopefully finish it sometime in the first quarter.
Douglas L. Williams -- President and Chief Executive Officer
Michael, what I would add to that is, you noted that this was expression of confidence and that's exactly what it is. We are confident in our earnings outlook. We're confident in our credit quality and we're confident in our capital strength. So we think we have a lot of flexibility to continue to execute on this $25 million authorization. As Pat mentioned, that will probably take us into the first quarter of next year. After that, we have considerable flexibility to continue with share repurchases or other capital management initiatives that -- that will seem appropriate at that point in time.
Michael Rose -- Raymond James -- Analyst
Okay. So just to be clear, the expectation is that you would look to finish this in pretty short order and then potentially provide some additional authorization as we move forward. Is that the way to think about it, just to be clear.
Douglas L. Williams -- President and Chief Executive Officer
Yes. I think so.
Patrick Oakes -- Chief Financial Officer
Yes, I think that's a Board decision, right? But I think we'll have to decide that in the first quarter, but I mean the first step is to get the $25 million program done, then we'll talk about next steps, right?
Douglas L. Williams -- President and Chief Executive Officer
Yes. But we expect to have considerable flexibility beyond completing this $25 million program given our capital levels, given anticipated strong credit quality and a good earnings outlook.
Michael Rose -- Raymond James -- Analyst
Got it. Okay, that's very helpful. Just wanted to shift to kind of what you guys are seeing on the loan growth front. I know there's not a ton of organic growth opportunities out there right now. But it does seem like from some of your competitors that there has been some hiring within the Atlanta market and some market share shifts as we talk about the large deal that was completed. Can you guys just give us an update on kind of the outlook for lender hires and then maybe what you're thinking from a net growth perspective as we move through the next couple of quarters? Thanks.
Douglas L. Williams -- President and Chief Executive Officer
Yes, I'll start Michael with sort of the loan growth outlook. As I mentioned, we didn't have any loan growth to speak of, in the third quarter, but we did see a revitalization of loan pipelines. And as our borrowers are so proving their resilient performance and they're making plans for the future, making new investment plan. So we are engaged in a number of opportunities that we expect to come to fruition in the fourth quarter and well into next year. So we think we'll return to loan growth in the fourth quarter. I would expect that we will finish the year with mid single-digit loan growth for the year, the sales 4% to 6% and we'll have momentum going into next year, hopefully with the prospect of loan growth above that level.
With respect to lender movement and so forth, and borrower movement for that matter. I think the dislocation, the moves have been muted a bit by the pandemic, but we do see some dislocation out there. We are picking up new clients, we're engaged in opportunistic discussions with the bankers and are posture with respect to hiring more bankers will be opportunistic going into 2021. You'll recall that we did hire a number of new bankers in 2019. And we still have ample capacity as they come online and come up to speed.
Michael Rose -- Raymond James -- Analyst
Understood. Maybe just one final one from me. I'm sorry if I missed this. But what are the expectations around the timing for forgiveness of the PPP loans? Are you expecting to get really any in the fourth quarter? Or just how should we think about that? Thanks.
Gray Fleming -- Chief Risk Officer
Michael, this is Gray. It's very uncertain, we expect to get some, but it would be probably pretty small. But the ones that we have submitted, we haven't heard back on. I have read that SBA has made some payments, but as you may know, they have under the act 90 days to respond. And so we would expect the vast majority of those push into '21. All that said, the big caveat is if Congress does something in terms of some sort of automatic forgiveness, that could change everything.
Douglas L. Williams -- President and Chief Executive Officer
Michael, to-date, we've received applications for forgiveness for well less than 10% of our total PPP loans. So, that gives you a little bit of an indication of how slow it is coming.
Michael Rose -- Raymond James -- Analyst
Very helpful. Thanks for taking all my questions.
Operator
[Operator Instructions] And our next question will come from Steve Comery of G.Research. Please go ahead.
Steve Comery -- G.Research -- Analyst
Hey, good morning.
Douglas L. Williams -- President and Chief Executive Officer
Good morning.
Steve Comery -- G.Research -- Analyst
Yes. Looking at Slide 13, no active deferrals in the hotel or retail book. That's maybe a little surprising in process, maybe if you guys could kind of go through what the process of recovery has looked like there? And then on the Slide 15 detail, details like just under 50% occupancy, as you guys mentioned in the prepared remarks, any insight into like how cash flows look at that occupancy level? Thanks.
Gray Fleming -- Chief Risk Officer
Sure, Steve. This is Gray. I'll take that and let others add. The deferral picture has been good in the hotel space. I would say it's the combination of two things on the SBA side, a lot of those are seven, eight loans and so the SBA has been making their payments and that's kind of coming to an end now absent any sort of extension of that program. And so we may have some requests from the SBA borrowers for deferral now that they come out of that. It's just as of 9/30, we haven't gotten those yet.
And on the CRE side, we may have one or two that need -- probably not E&I, but maybe some principal relief to get through winter and those would be more, kind of, locations that had specific or even sports or otherwise that cause them to be a little slower in their late summer, early fall recovery than the average is, but at the same time we have patient investors with access to additional capital. And so they feel really good about these locations and have cut expenses and -- but just might need a little help getting through the winter months. That 50% average occupancy, there is a pretty wide range and there we have two or three properties that are seeing 70%-plus occupancy. Again, maybe just driven by what they're next to like a hospital or something like that.
And then some that are struggling more, but most of them have been able to make, particularly the CRE side the -- very professionally managed hotel properties, they've been able to cut their expenses to where from a cash flow standpoint, even if that service, kind of, kicks back in, they are either at or very close to covering in that 50% occupancy range. So they've been able to make some adjustments, which a number of them are telling us could be partially permanent adjustments to their expense basis.
Steve Comery -- G.Research -- Analyst
Okay, thank you for that. Maybe just on those SBA potential deferral request. Any indication as to like the magnitude of that, how big that portfolio is and kind of how much you would expect in deferral request thing?
Gray Fleming -- Chief Risk Officer
Yes. It's we're, kind of, in the throes of that right now in terms of trying to reach out to borrowers. I would say we have maybe a couple dozen of those borrowers that have indicated that they might be asking for a deferral. And so that's not a huge portion of -- we have probably 400 or so SBA loans. So it's -- and we talk about the ones that we're more concerned about, on our watch list every month. And most of those are telling our bankers that they feel fine about returning to normal payments.
Flip side of all that is, the SBA has in writing encouraged lenders to work with these borrowers on deferral requests as they come out of the Cares Act subsidy payments. And so we're wondering a little bit if borrowers are going to ask, just to ask, but we have to get financial information and review those from a credit standpoint and that's normal SBA operating procedure. So we may not end up improving all that asked for it, but they are ones that we'll just have to work through one by one.
Steve Comery -- G.Research -- Analyst
Okay, it makes sense. And maybe one final one from me. I appreciate the commentary on the tax rate in the press release. Should we expect taxes to move up from here or stay closer to this level?
Patrick Oakes -- Chief Financial Officer
So as we head into next year depending on our performance, right? So we've -- obviously this year has been impacted obviously by lower performance, but also the amount of municipals we purchased earlier this year and last year. So that combination kind of drill down on tax rate. Next year, if our performance picks up, obviously that tax rate could increase, I don't know if we'd had a significant amount of new taxable securities, but it's really just driven by performance more than anything else.
Steve Comery -- G.Research -- Analyst
Okay. So this is -- should I read that as assuming performance normalizes, tax rate normalizes?
Patrick Oakes -- Chief Financial Officer
Yes.
Steve Comery -- G.Research -- Analyst
Okay. Okay, fair enough. Thank you very much.
Operator
This concludes our question-and-answer session. I would like to turn the conference back over to Doug Williams for any closing remarks.
Douglas L. Williams -- President and Chief Executive Officer
All right, thank you and thank you all again for dialing in this morning. Just a few summary remarks. We were pleased to see revenue growth during the quarter and stable credit. We were also pleased to be able to resume our share repurchase program. And as we said, there's really an expression of confidence in our earnings outlook, in our credit quality and in our capital strength.
In terms of the outlook, and we do expect a resumption of loan growth in the fourth quarter and momentum going into 2021. We expect the trajectory of growth in non-interest bearing demand deposits to steepen -- began to steepen during the fourth quarter and to remain solid well into 2021 and beyond. And in the fourth quarter, we expect the expense run rate to normalize around $13 million.
So those are my summary comments. Again, thank you for dialing in. We look forward to talking to you all over the next few days. Goodbye.
Operator
[Operator Closing Remarks]
Duration: 28 minutes
Call participants:
Gray Fleming -- Chief Risk Officer
Douglas L. Williams -- President and Chief Executive Officer
Patrick Oakes -- Chief Financial Officer
Michael Rose -- Raymond James -- Analyst
Steve Comery -- G.Research -- Analyst
